Investors and companies employ several valuation strategies to determine the value of a business. Comparable company analysis (CCA) is one method that is used to determine the worth of a particular company by studying similar businesses in the same industry.
This particular model of analysis works on the assumption that businesses with similar size and status will be valued equally. It is, however, important to realize that this analysis can only give investors an approximate value, which could differ from the actual value of the company.
WHAT IS COMPARABLE COMPANY ANALYSIS?
Comparable company analysis (CCA) is an analysis of financials that is used to evaluate a business by comparing it to similar companies within the same field.
The principal goal of Comparable Company Analysis is to assess the worth of a business by measuring its financial performance as well as valuation multiples to similar companies operating in the same field.
Through analyzing the company’s value in relation to its competitors, Analysts can determine if the company is valued too high or undervalued. Alternatively, it is fairly valued by the market. CCA is extensively used by financial professionals, investment analysts, and business leaders to evaluate the worth of a business and to make educated investment decisions such as merger and acquisition assessments as well as other financial planning tasks.
Through incorporating CCA in their financial analysis process, analysts will gain a better understanding of the company’s market position as well as competitive advantages and future growth prospects and then make educated decisions about the company’s future performance and worth.
WHY USE COMPARABLE COMPANY ANALYSIS?
From all the available strategies, investors select the method of analyzing comparable companiesdue to the fact that it is simple to apply and the information needed to estimate the value of a company is easily accessible. This is true only for companies that are publicly traded since all information is publicly accessible. This method also assumes that the market is pricing securities of other companies efficiently. The companies will give you a fair estimate of the value, while other valuation methods depend on a large range of assumptions like that of the discounted cash flows.
PROS TO COMPARABLE COMPANY ANALYSIS
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WIDELY EMPLOYED
Comparable Company Analysis (CCA) is a commonly used valuation technique in private equity, investment banking, and other financial industries. It is a widely used method and framework to analyze businesses.
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QUICK ANALYSIS
The analysis and comparison do take a short amount of time, mainly because enough details about the companies that are comparable are available. There is no need for complicated financial modeling methods or huge data collection.
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SURPRISINGLY SIMPLE
CCA is an easy and simple method of valuing. It is based on measuring the financial performance of a business against those of its competitors, which makes it simple to comprehend and apply to analysts as well as investors. It’s also beneficial for CFOs and CEOs of SMEs who need to become acquainted with the process of discounted cash Flow.
HOW TO CONDUCT A COMPARABLE COMPANY ANALYSIS?
Comparable valuation of a company is an extremely beneficial method and can be used to evaluate a company’s valuation multiples to its competitors. Analysts must adhere to a specific procedure in conducting an analysis that involves two brands. Here are the steps required to begin the process of analysis:
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CHOOSING THE RIGHT COMPANIES TO COMPARE
The company that is to be valued should be evaluated against an identical business. Analysts should have a thorough understanding of the company in question and its classification in the industry and more. To find a company that is similar to the one you are looking for, you should look for these common elements such as
- The industry that they work in.
- The place in which both firms operate.
- It is the rate at which growth occurs for both firms.
- Revenue generated.
- Employees’ number.
- Assets
- Margins and profitability
If analysts discover two companies that are alike in every aspect, they can then analyze the comparable companies of the two companies.
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GET FINANCIAL INFORMATION FROM BOTH FIRMS
The collection of financial data for the business takes time and effort. Yet, one can get information from the quarterly and annual reports. However, not all companies will release such information. In such instances, analysts will need to make use of whatever information is available. Based on the industry and the kinds of businesses that are compared, this stage is typically the most challenging.
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MAKING A SIMILAR ANALYSIS FOR COMPANY TABLE
The next step is to use Excel to build an Excel spreadsheet to show the relationship between several brands. Take the following as a similar example of a company’s analysis. Remember that in addition to the EV/Sales ratio, the process may compare two businesses against each other with respect to other aspects, such as –
- EV/Revenue
- EV/EBITDA
- Profit from EV/Gross
- Price/Net Asset Value
The comparisons reveal distinct characteristics of the 2 or 3 companies involved.
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DESIGNING THE PERFECT TABLE LAYOUT
For a successful comparable company analysis, the table has to be formatted correctly. Analysts are able to combine different data types, like market data, financial information, and valuation information. The result will be greater clarity when it comes to assessing the standing of both companies.
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INTERPRETING THE DATA CONTAINED
The final step of this similar analysis method is to examine the information that is presented in the table and then interpret the information in a meaningful way. Interpretation helps to identify whether a certain company is overvalued or undervalued. But, because of the absence of qualitative variables, this analysis should be done with great caution.
CONCLUSION
Comparable company analysis is one of the popular financial analysis techniques that provides valuable insight into a company’s value and helps in identifying the future of investment banking. When comparing a company’s valuation and performance in the financials with those of comparable companies in the same field, analysts can evaluate the company’s competitive position, potential for growth, as well as competitive advantages. This allows them to make educated decisions about the company’s future performance and worth.
